Newspapers: Not as Bad as Advertised

Okay, full disclosure: I have been involved in the newspaper industry for a good portion of my career. I've worked on large dailies and small weeklies and have always been a major fan of newspapers in general.

So it has been with great dismay that I've watched the industry shrink and crumble over the last few years. It has been beset by a wave of technology-related problems that have significantly reduced the number of major revenue streams particularly classified advertising. Classified advertising was one of the most profitable elements of the newspaper business since its inception. When I talk about classified ads, I'm including employment ads and display advertising from car dealers. When Craigslist came on the scene, a huge chunk of that business just went away.

Of course, the internet in general has siphoned off millions of dollars of advertising that used to belong to the newspaper industry. Newspaper executives watched in horror as one revenue stream after another came under attack. When you add in the impact of the severe economic downturn, the result is an incredibly toxic environment for media companies in general and newspapers in particular.

The industry itself was slow to react, waiting until it was almost too late before it began to cut costs. Even then they did not cut deeply enough or fast enough. The business has always been dominated by large and powerful labour unions that, like management, were slow to understand that their world has changed irrevocably and forever.

There have been several instances over the past 25 years of unions staging crippling strikes in what was essentially a last-ditch stand to stop the progress of technology. In almost all cases, the unions lost – sometimes at the cost of the jobs of all their members. At least one major Canadian newspaper, The Montreal Star, permanently ceased publication as a result of such a strike.

With all that in mind it's fair to wonder why I would recommend buying newspaper stocks. If you believe that newspapers are a dying breed and will never come back, do not read any further. If, however, you believe that some of these companies will find a way to adapt and survive then there are couple of names that offer the potential for good rewards, at least in the medium term. While I am not certain that they will prove to be great long-term holds, I think it's likely they could double from present levels over the next 12 to 18 months.

The two companies I have in mind are the New York Times (NYSE: NYT) and Gannett Corporation (NYSE: GCI). Both are trading for about the same price, well down from their highs but well up from their lows. Both companies have other assets beyond their core newspaper business and I'll outline them below. But essentially these are newspaper companies that have suffered greatly, as have their shareholders over last three years.

I understand that this is a contrary recommendation but the reason I'm interested in these two companies now is that they have both been cutting costs dramatically for the past several months and they are well-positioned digitally to benefit from the online consumption of news, presuming they can find a way to get their subscribers to start paying for some of the content. That last thought is still in the wind and it is far from certain that people will be willing to pay to read news online.

It is likely that the New York Times would have a better chance of doing this than most of Gannett’s offerings. But even if they are not successful in attracting subscriber income they are well-positioned to benefit from what I believe will be a gradual recovery in the advertising market in general over the next several months.

Let's take a quick look at the two companies starting with Gannett. It is the largest newspaper company in America, publishing 85 daily newspapers including USA Today and over 850 local publications in 31 states. The company also has a large presence in the U.K., publishing more than 200 weekly newspapers, magazines, and trade publications making its Newsquest division the second-largest regional newspaper publisher in Britain. It also has a large broadcasting arm with 23 television stations in major markets around the U.S.

The company has also made a significant investment in online properties, reaching over 27 million unique visitors every month. It owns a majority stake in Career Builder, which is a large employment website, along with anotherlarge Internet portal called ShopLocal.

Beyond those independent digital operations, Gannett offers a number of technology solutions to the industry at large with companies like Point Roll, Planet Discover, Schedule Star, and Purple6. As you can imagine, virtually every element of the business has been challenged over the last several months. This has forced the company to make dramatic cuts in staffing which have included forced furloughs for all members including the CEO who is on sick leave at the moment.

The good news is that all these cuts have resulted in the company achieving profitability in the second quarter of 30c per share (figures in U.S. dollars) during one of the most difficult times for national advertising since the Great Depression. That compared to a net loss of $10.03 per share in the second quarter of 2008. Gannett declared a small dividend that was well down from a year ago but better than suspending the payment entirely.

The New York Times also has a number of businesses outside its famous core newspaper. They own the International Herald Tribune, Boston.com, and a number of regional newspapers including 50 newspapers in Alabama, California, Florida, Louisiana, North Carolina, and South Carolina.

Like Gannett, the company has made significant Internet investments acquiring about.com, consumersearch.com, caloriecount.com, etc. Additionally, the company owns a significant stake in the Boston Red Sox, Fenway Park, and adjacent real estate properties, all of which are for sale.

It is likely that the Times will divest most of its New England properties including the Boston Globe this year which, along with the Red Sox stake, could raise a couple of hundred million dollars to help reduce debt. Last year, at the depths of the downturn, Mexican billionaire Carlos Slim made a significant investment in the company at ridiculous interest rates of 17%.

Currently the corporate bonds are yielding over 10%, which is another interesting way to invest in the New York Times. Recently, the company reported a surprise profit based on deep cost-cutting and some tax benefits.

The company's CEO, Janet Robinson, is pushing hard to capitalize on their considerable digital assets, not the least of which is the New York Times website itself which is arguably the best newspaper site anywhere. The company tried and failed to charge for premium content in the past but plans to give it another whirl before too long. The content of the Times is so excellent that they have a better chance than most to convince people to pay up to read their online material. They need to hope it works this time because advertising revenue dropped by over 30% in the first two quarters of this year.

It's my guess that both these companies will survive and both will benefit from improving market conditions going forward. Staffing costs have been reduced and their costs for paper and ink have dropped significantly as well. Any reasonable rebound in advertising revenue should result in significant improvements to the bottom line.

If these companies can show a couple of quarters of improving profitability their stock prices should rise and generate a nice return. However, if the advertising market continues to drag this could be dead money for the foreseeable future. Call me a sentimental fool but I think there may be some life left in the old gray lady yet!

Action now: Buy NYT at $8.06 with a target of $12 and buy GCI at $8.16 with a target of $14.

Comments

[Edward Banks:]

Interesting observations. However it is not entirely true that Gannett achieved "profitability in the second quarter of 30c per share (figures in U.S. dollars) during one of the most difficult times for national advertising since the Great Depression. That compared to a net loss of $10.03 per share in the second quarter of 2008".

In reality, they had in Q2 2009 an operating income of $143 M. versus an operating income of $358 M. in Q2 2008, hardly a success. However in Q2 2008 they had an extraordinary accounting charge off of $2.491 Billions due to a reduction in asset values, which made the bottom line in that quarter look much worse than it was.

However, to compare apples with apples the Q2 '09 $143 M. must be compared to the $358 M. of Q2 '08. Based on that comparison, and in reality, Gannett did not go from net loss to profitability but instead reduced its profitability to less than half in a year.

One of he problems with the Internet revenues for newspapers is that the advertising CPM is way too low to pay the bills of a local newspaper.

It is too low because too many "advertising networks" aggregate tens of thousands of small web sites in one "network", providing millions of impressions to advertisers for next to nothing as the small web sites get themselves paid next to nothing. This is not going to change as there will always be millions of small web sites whose owners make money in some other ways or they do it as a hobby so they don't care to make much money from advertising and it is "sine cura" for them as the "advertising networks" feed the ads to their web sites automatically.

On the "paid subscription" side, as much as Mr. Murdoch would like to create revenues that way, he knows himself too well that the success of his Wall Street Journal in selling subscriptions is an exception and not the rule, due to the global readership's demographics of the WSJ which are not the same of local newspapers.

Consumers believe that they already pay to get content on the Internet as they pay every month for their Internet access, the same way as they get the television networks content by paying their monthly cable or satellite fees. If the "paid content" would be so much better and "advertising free", as HBO or Showtime, certainly some consumers would subscribe to certain web sites services.

However to say that online paid subscriptions, particularly if offered "advertising free", would be able to pay the bills of a local daily newspaper means not knowing what the monthly expenses of a local daily newspaper are, regardless of cost cuts.

All that said, newspapers are not just commercial enterprises, they are much more than that. For two hundred years they have had an essential, indispensable role in their communities, not only to inform but also being watch dogs in the interest of their communities and also an instrument to educate the new generations in a way that went far beyond the school books. It would be a great loss for any community to see their newspaper disappear, however, unless publishers will find new business models to replace the current one, the future for newspapers will remain uncertain as it is today

Sep 09 09:22 AM